Does an Illinois employer have to withhold Illinois income tax from an employee who is not an Illinois resident and performs no work in Illinois?

Subject

Non-Resident Withholding

Plain-English summary

A taxpayer wrote to the Illinois Department of Revenue asking whether an Illinois employer must withhold Illinois income tax from an employee who does not work or reside in Illinois — specifically, someone who does no work whatsoever in Illinois and does not even travel or telecommute there. The taxpayer explained that they had been employed by "the SCHOOL" to mentor graduate students in another state ("STATE2") for certain tax years and in a third state ("STATE3") for other tax years, all while being a resident of yet another state ("STATE1"). The school had withheld Illinois state income tax from the taxpayer's wages during those years, and the taxpayer was trying to recover those wages from the school, while acknowledging it was probably too late to seek a refund directly from the Department.

The Department responded with a General Information Letter (GIL) rather than a binding ruling, because of the general nature of the request. Applying the withholding statute (35 ILCS 5/701) together with the sourcing rule for compensation (35 ILCS 5/304(a)(2)(B)) and the resident-income allocation rule (35 ILCS 5/301(a)), the Department concluded that, based on the facts as described, if the taxpayer was not an Illinois resident and none of the services were performed within Illinois, the compensation did not appear to be "paid in Illinois." As a result, the former employer was not required by Section 701 to withhold Illinois income tax from that compensation.

The Department also flagged the refund statute of limitations in 35 ILCS 5/911(a): a claim for refund generally must be filed within 3 years after the return was filed (or, for withheld amounts, within 3 years after the 15th day of the 4th month following the close of the calendar year in which the withholding was made), or one year after the tax was paid, whichever is later. Based on the timing described in the letter, the Department noted the taxpayer might still be able to file a return seeking a refund for tax year 2018, even though earlier years were likely time-barred.

The letter pointed the taxpayer to further guidance in 86 Ill. Adm. Code Section 100.7010 and Illinois Publication 130 for more detail on when compensation is considered "paid in this State" and subject to withholding.

What this means for you

Nonresident employees whose employer withheld Illinois tax

If you never performed services in Illinois and were not an Illinois resident during the years in question, this GIL indicates the Department views your wages as not "paid in Illinois" under 35 ILCS 5/304(a)(2)(B), meaning your employer should not have withheld Illinois income tax on those wages under 35 ILCS 5/701. But acting on that requires filing a timely refund claim — the Department specifically noted the 3-year/1-year rule in 35 ILCS 5/911(a), so older tax years can become permanently unrecoverable from the Department even if the withholding was improper.

Employers with remote or multi-state employees

The ruling reinforces that Illinois withholding turns on where the employee's services are actually performed (and, secondarily, on base of operations or direction/control), per 35 ILCS 5/304(a)(2)(B), not merely on where the employer is headquartered or does business. Employers should review 86 Ill. Adm. Code 100.7010 and Publication 130 before assuming withholding is required for out-of-state remote workers.

Anyone relying on this letter

This is a General Information Letter, not a Private Letter Ruling. It is not a statement of Department policy and is not binding on the Department (86 Ill. Adm. Code 1200.120(b) and (c)). A taxpayer who wants a binding answer on their own specific facts, and who is not under audit, would need to submit a request for a Private Letter Ruling under Section 1200.110(b).

Common questions

Q: Did the Department say the employer should not have withheld Illinois tax?
A: Based on the facts described — the employee was not an Illinois resident and performed no services in Illinois — the Department concluded the compensation "does not appear to be compensation 'paid in Illinois,'" so the employer "was not required by Section 701 to withhold Illinois income taxes from your compensation."

Q: Can the taxpayer get a refund of the Illinois tax that was withheld?
A: The letter notes that, pursuant to 35 ILCS 5/911(a), the taxpayer "may still be able to file a return seeking a refund for tax year 2018." It does not say a refund is available for the earlier years mentioned in the request, given the statute's 3-year/1-year filing deadlines.

Q: What Illinois statute governs whether wages count as "paid in Illinois"?
A: 35 ILCS 5/304(a)(2)(B), which looks at whether the employee's service was performed entirely (or primarily) within Illinois, or whether the employee's base of operations or place of direction/control is in Illinois.

Q: Does this letter apply to professional athletes or other special categories of employees?
A: The letter states that 35 ILCS 5/304(a)(2)(B) applies "for employees other than professional athletes," so it does not address the separate rules that apply to professional athletes.

Q: Where can employers find more guidance on when withholding is required?
A: The letter points to 86 Ill. Adm. Code Section 100.7010 and Illinois Department of Revenue Publication 130 for further guidance on when compensation is considered "paid in this State" and subject to withholding.

Q: Is this letter binding on the Illinois Department of Revenue?
A: No. It is a General Information Letter issued under 86 Ill. Adm. Code 1200.120(b) and (c), which states such letters do "not constitute a statement of policy that applies, interprets or prescribes the tax laws" and are "not binding on the Department."

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/income-tax/2021.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/income-tax/2021/it21-0003-gil.pdf

Original ruling text

IT 21-GC-0003 06/4/2021 Non-Resident Withholding

Withholding of Illinois income tax not required for Compensation paid to a
nonresident for services not performed in Illinois.

June 4, 2021
Re: Illinois income tax
Dear NAME:

This is in response to your letter dated May 28, 2021, in which you request
information regarding Illinois income tax. The nature of your request and the
information you have provided require that we respond with a General
Information Letter, which is designed to provide general information, is not a
statement of Department policy and is not binding on the Department. See 86 Ill.
Adm. Code 1200.120(b) and (c), which may be found on the Department's web
site at www.tax. illinois.gov.

Your letter states as follows:

| am writing to request a General Information Letter on a tax issue as
described below.

Should an IL employer withhold IL income tax from an employee who
does not work or reside in Illinois? To be clear, | mean an employee who
does no work whatsoever in Illinois, and who does not even travel (nor
telecommute) to Illinois during their employment.

| was employed by the SCHOOL to mentor graduate students in STATE2
for tax years YYYY-YYYY and STATES for tax years YYYY-YYYY, while |
was a resident of STATE1. The SCHOOL withheld Illinois state income tax
from my wages for these years.

| also realize that it is probably too late to recover these taxes from the
Illinois Department of Revenue. | am attempting to recover my wages from
the SCHOOL

RULING

During the tax years in questions, the Illinois Income tax provided as follows.
Section 701 of the Illinois Income Tax Act (35 ILCS 5/701) provided, in part:

(a) In General. Every employer maintaining an office or transacting
business within this State and required under the provisions of the Internal
Revenue Code to withhold a tax on:

(1) compensation paid in this State (as determined under
Section 304(a)(2)(B) to an individual; or

(2) payments described in subsection (b) shall deduct and
withhold from such compensation for each payroll period (as
defined in Section 3401 of the Internal Revenue Code) an amount
equal to the amount by which such individual's compensation
exceeds the proportionate part of this withholding exemption
(computed as provided in Section 702) attributable to the payroll
period for which such compensation is payable multiplied by a
percentage equal to the percentage tax rate for individuals provided
in subsection (b) of Section 201.

(b) Payment to Residents. Any payment (including compensation,
but not including a payment from which withholding is required under
Section 710 of this Act) to a resident by a payor maintaining an office or
transacting business within this State (including any agency, officer, or
employee of this State or of any political subdivision of this State) and on
which withholding of tax is required under the provisions of the Internal
Revenue Code shall be deemed to be compensation paid in this State by
an employer to an employee for the purposes of Article 7 and Section
601(b)(1) to the extent such payment is included in the recipient's base
income and not subjected to withholding by another state. Notwithstanding
any other provision to the contrary, no amount shall be withheld from
unemployment insurance benefit payments made to an individual pursuant
to the Unemployment Insurance Act unless the individual has voluntarily
elected the withholding pursuant to rules promulgated by the Director of
Employment Security.

Section 304(a)(2)(B) of the Illinois Income Tax Act (35 ILCs 5/304) provided that,
for employees other than professional athletes:

Compensation is paid in this State if:
(i) The individual's service is performed entirely within this State;

(ii) The individual's service is performed both within and without this
State, but the service performed without this State is incidental to the
individual's service performed within this State; or

(iii) Some of the service is performed within this State and either the
base of operations, or if there is no base of operations, the place from
which the service is directed or controlled is within this State, or the base
of operations or the place from which the service is directed or controlled
is not in any state in which some part of the service is performed, but the
individual's residence is in this State.

In Article 3 of the Illinois Income Tax Act, Section 301(a) of the Illinois Income
Tax Act (35 ILCS 5/301) provided:

All items of income or deduction which were taken into account in the
computation of base income for the taxable year by a resident shall be
allocated to this State.

The amount of Illinois wages that should be reported on the Form W-2 is the
amount “paid in this State” on which withholding is required. According to your
letter, you were employed by the SCHOOL to mentor graduate

students in STATE2 for tax years 2016-2018 and STATES for tax years 2017-
2018, while you were a resident of STATE1. The SCHOOL withheld Illinois state
income tax from your wages for those years. Based on the information you
provided, if you were not an Illinois resident, and none of the services you
provided were performed within Illinois, then, pursuant to Section 304 of the
Illinois Income Tax Act, as in effect during the taxable years in question, your
compensation does not appear to be compensation “paid in Illinois.” As such,
your former employer was not required by Section 701 to withhold Illinois income
taxes from your compensation.

Section 911(a) of the Illinois Income Tax Act, 35 ILCS 5/911(a), as in effect
during the tax years in question, provided as follows:

(a) In general. Except as otherwise provided in this Act:

(1) A claim for refund shall be filed not later than 3 years after the
date the return was filed (in the case of returns required under Article 7 of
this Act respecting any amounts withheld as tax, not later than 3 years
after the 15th day of the 4th month following the close of the calendar year
in which such withholding was made), or one year after the date the tax
was paid, whichever is the later; and

(2) No credit or refund shall be allowed or made with respect to the
year for which the claim was filed unless such claim is filed within such
period.

Pursuant to Section 911(a), you may still be able to file a return seeking a refund
for tax year 2018.

Further guidance on when compensation is considered “paid in this State” and
subject to withholding, can be found at 86 Ill. Adm. Code Section 100.7010,
which can be found at:

http://www.ilgda.gov/commission/jcar/admincode/086/086001000S70100R.html

and in Publication 130, which can be found at:

httos://www2. illinois.gov/rev/research/publications/pubs/Documents/pub-130.pdf

As stated above, this is a general information letter which does not constitute a
statement of policy that applies, interprets or prescribes the tax laws, and it is not
binding on the Department. If you are not under audit and you wish to obtain a
binding Private Letter Ruling regarding your factual situation, please submit all of
the information set out in items 1 through 8 of Section 1200.110(b). If you have
any further questions regarding this letter, you may contact me at (217) 782-
2844.

Sincerely,
Michael D. Mankowski

Associate Counsel - Income Tax

cc: Daily File
Correspondence file: